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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
(Mark one)
[X]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For The Fiscal Year Ended December 31, 2001
or
[_]TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
for the transition period from to .
Commission File Number: 001-15713
ASIAINFO HOLDINGS, INC.
(Exact name of Registrant as specified in its charter)
Delaware 752506390
(State of incorporation) (I.R.S. Employer
Identification No.)
4th Floor, Zhongdian Information Tower
6 Zhongguancun South Street, Haidian District
Beijing 100086, China
(Address of principal executive offices, including zip code)
Registrant's telephone number, including area code +8610 6250 1658
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $0.01 Par Value
(Title of Class)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [_]
Based on the closing sale price of the common stock on the Nasdaq National
Market System on March 1, 2002, the aggregate market value of the voting stock
held by non-affiliates of the Registrant was $271,880,045.31.
The number of shares outstanding of the Registrant's common stock, $0.01 par
value, was 42,693,394 at March 1, 2002.
DOCUMENTS INCORPORATED BY REFERENCE
Certain information is incorporated by reference to the Proxy Statement for
the Registrant's 2002 Annual Meeting of stockholders to be filed with the
Securities and Exchange Commission pursuant to Regulation 14A not later than
120 days after the end of the fiscal year covered by this Form 10-K.
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ASIAINFO HOLDINGS, INC.
FORM 10-K
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001
TABLE OF CONTENTS
PART I
ITEM 1.Business........................................................... 3
ITEM 2.Properties......................................................... 20
ITEM 3.Legal Proceedings.................................................. 20
ITEM 4.Submission of Matters to a Vote of Security Holders................ 20
PART II
ITEM 5.Market for Registrant's Common Equity and Related Stockholder
Matters.................................................................. 21
ITEM 6.Selected Financial Data............................................ 22
ITEM 7.Management's Discussion and Analysis of Financial Condition and
Results of Operation..................................................... 23
ITEM 7A.Quantitative and Qualitative Disclosures About Market Risk........ 42
ITEM 8.Financial Statements and Supplementary Data........................ 42
ITEM 9.Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure..................................................... 42
PART III
ITEM 10.Directors and Executive Officers of The Registrant................ 43
ITEM 11.Executive Compensation............................................ 43
ITEM 12.Security Ownership of Certain Beneficial Owners and Management.... 43
ITEM 13.Certain Relationships and Related Transactions.................... 43
PART IV
ITEM 14.Exhibits, Financial Statement Schedules, and Reports on Form 8-K.. 44
SIGNATURES................................................................ 45
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Except for historical information, the statements contained in this Annual
Report on Form 10-K are forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. The Private Securities Litigation Reform Act of 1995, or
the Reform Act, contains certain safe harbors regarding forward-looking
statements. Certain of the forward-looking statements include management's
expectations, intentions and beliefs with respect to our growth, our operating
results, the nature of the industry in which we are engaged, our business
strategies and plans for future operations, our needs for capital expenditures,
capital resources and liquidity, and similar expressions concerning matters
that are not historical facts. Such forward-looking statements are subject to
risks and uncertainties that could cause actual results to differ materially
from those expressed in the statements. All forward-looking statements included
in this document are based on information available to us on the date hereof,
and we assume no obligation to update any such forward-looking statements.
These cautionary statements are being made pursuant to the provisions of the
Reform Act with the intention of obtaining the benefits of the safe harbor
provisions of the Reform Act. Among the factors that could cause actual results
to differ materially are the factors discussed below under the heading "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operation--Factors Affecting Our Operating Results and Our Common Stock."
In this report, "AsiaInfo," the "Company," "we," "us," and "our" refer to
AsiaInfo Holdings, Inc. and its subsidiaries.
PART I
ITEM 1. Business
OVERVIEW
We are a leading provider of telecommunications network integration and
management solutions in China. Our software products and network services
enable our customers to build, maintain, operate, manage and continuously
improve their Internet and telecommunications infrastructure.
Our key customers are the leading telecommunications service providers in
China, including China Telecommunications Corporation, or China Telecom, China
United Telecommunications Corporation or China Unicom, China Mobile
Communications Corporation, or China Mobile, China Network Communications
Corporation, or China Netcom, and China Railway Communications, or China
Railcom. We designed and built China Telecom's ChinaNET, which is China's first
commercial and largest national Internet "backbone," meaning the physical
network of cables and computers that carries Internet traffic. We are about to
complete the second phase of UniNET, China's second national commercial
Internet backbone, for China Unicom, and have completed the first phase of
CNCNET, China's fourth national commercial Internet backbone, for China Netcom.
We have also built CMCCNET, China Mobile's commercial Internet backbone and
recently won a contract to design and build RailNet, China Railcom's national
Internet backbone. In addition to these national Internet backbone projects, we
have built numerous provincial Internet backbones throughout China, including
GuangdongNET, the first and largest provincial commercial Internet backbone in
China.
Although we built our business through major Internet backbone construction and
integration projects, most of these projects have included the carrier-class,
meaning high performance, highly fault tolerant software components that we
develop and sell. Our software products can support millions of users, are
designed with open architecture to facilitate customization, and are tailored
for the specific needs of the China market. Because these software products,
along with our network integration services, have a broad range of applications
for our customers' businesses, including their fixed-line, wireless and
Internet protocol, or IP, telephony services, our business has grown from a
pure Internet infrastructure developer to a total telecommunications
infrastructure software and services provider. We currently organize our
combined network services and software product offerings into four solutions:
. Network infrastructure solutions--which involve the construction, design,
integration, management and optimization of large Internet and
telecommunications networks;
. Operation support system solutions, or OSS solutions--which include our
highly scalable customer care and billing software capable of automating a
telecom carrier's key business processes, such as billing and order and
inventory management;
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. Service application solutions--which include our carrier-scale messaging
software, as well as Internet protocol telephony and virtual private
networks; and
. Network security solutions--which include the design, integration and
management of Internet protocol network security systems and the training of
personnel to oversee such systems.
Three of these solutions--network infrastructure, operation support system, and
service application--are offered through our three strategic business units, or
SBUs, while network security solutions are offered through our majority-owned
subsidiary, Marsec System Inc., or Marsec.
We commenced our operations in Texas in 1993 and moved our operations from
Texas to China in 1995. We began generating significant network solutions
revenues in 1996 and significant software solutions revenues in 1998. For
detailed financial information, please refer to our consolidated financial
statements and the notes to those statements included in this report and "Item
7. Management's Discussion and Analysis of Financial Condition and Results of
Operations" beginning on page 23 of this report. While we source hardware for
our customers through our U.S. parent company, AsiaInfo Holdings, Inc., we
conduct the bulk of our business through our wholly-owned operating subsidiary,
AsiaInfo Technologies (China) Inc., or AsiaInfo Technologies, which is a
Chinese company.
RECENT DEVELOPMENTS
Bonson Acquisition
We completed our acquisition of Bonson Information Technology Holdings Limited,
or Bonson, on February 6, 2002. In connection with the acquisition, we
anticipate that the former shareholders of Bonson will receive approximately
$30 million cash and approximately $18.6 million in shares of our common stock.
Bonson is a leading provider of operation support system solutions to wireless
telecommunications businesses in China, including billing, accounting and
reporting, settlement, customer relationship management and decision support
systems. Bonson's other product lines include mobile network monitoring
systems, network management and wireless data applications. Bonson's largest
customers are China Mobile and various provincial subsidiaries of China Mobile.
The company is based in Guangzhou, China and has approximately 200 employees.
We believe that the acquisition of Bonson will allow us to fully capitalize on
growth opportunities in China's wireless operation support system solutions
market, and significantly increase our share of that market.
New Strategic Business Units
At the start of 2002, we reorganized our internal operations into three
strategic business units, which correspond with three of our product
offerings--network infrastructure solutions, operation support system
solutions, and service application solutions. Each of these business units is
responsible for both the service and software components that comprise their
product offerings. The investment focus of Chinese telecom carriers is evolving
from pure infrastructure to high value-added services and software, enabling
them to optimize network performance, streamline business processes, and
generate more revenue by offering new business. Our three new SBUs were formed
to address these market demands seamlessly. Our fourth product offering--
network security solutions--is provided by our majority-owned subsidiary,
Marsec.
INDUSTRY BACKGROUND
Over the past several years, the telecommunications industry in China has gone
through several restructurings, which are described in greater detail below.
These restructurings have been accompanied by deregulation and have led to
rapid growth in the market for telecommunications services. For example,
according to Wu Jichuan, Minister of China's Ministry of Information Industry,
or MII, in 2001 China's fixed-line phone subscribers increased by 23% to 179
million and wireless phone users increased by approximately 70% to 145 million.
During that period, total revenue generated by the telecommunications sector
reached approximately $42.6 billion, up 15% from the previous year. In July
2001, China surpassed the United States to become the largest
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market for wireless telephony in the world. As the overall telecommunications
market has changed and expanded, the Internet market in China has grown rapidly
due to increased access to telecommunications services and declining personal
computer prices. Internet Data Corporation, or IDC, estimates that Internet
users in China will reach 25.1 million in 2002, representing a compound annual
growth rate of 77.3% from 1999.
Prior to a major industry restructuring in 1999, the telecommunications and
Internet markets in China were dominated by the predecessor company of China
Telecom. In 1999, the predecessor company of China Telecom was divided into the
following four companies:
. China Telecom--providing fixed-line and data communication services;
. China Mobile--providing mobile and data communication services;
. China Satellite--providing satellite communications; and
. Guoxin Paging--a paging business that was subsequently merged into China
Unicom.
On December 11, 2001, in an effort to increase the efficiency of
telecommunications service providers through competition, the State Council of
China announced that it would again reorganize China Telecom by splitting it
geographically into a northern division (comprising ten provinces) and a
southern division (comprising 21 provinces). Under the State Council's plan,
the northern division of China Telecom will merge with China Netcom and Jitong
Communication, and will use the China Netcom name. The southern division will
continue to operate under the China Telecom name.
Today, all major sectors of China's telecommunications industry, including
fixed-line services, wireless telephony services and Internet services, contain
multiple service providers. The following is a list of China's major service
providers in different industry sub-sectors after the planned reorganization of
China Telecom:
Industry Sub-Sector Major Service Providers
- ------------------- -----------------------
Fixed-line telephony.... China Telecom, China Unicom, China Netcom and China Railcom
Wireless telephony...... China Mobile and China Unicom
Internet protocol China Telecom, China Unicom, China Netcom,
telephony.............. China Mobile and China Railcom
Data communications and China Telecom, China Unicom, China Netcom,
Internet............... China Mobile and China Railcom
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Sources: IDC and AsiaInfo.
China's government has set aggressive goals for the future growth of China's
telecommunications industry. According to MII's Tenth Five-Year Plan, the
industry will continue to grow three times as fast as China's GDP during the
period from 2001 through 2005. By 2005, the MII expects telecommunications
service revenues to reach approximately $110 billion, which is triple the
figure in 2000. The capacity of fixed switching equipment is expected to reach
300 million lines, while mobile switching capacity is expected to reach 360
million lines. According to the Tenth Five-Year Plan, there will be
approximately 500 million telephone subscribers in China by 2005, representing
a penetration rate of more than 40%. The number of fixed-line subscribers is
expected to reach 240 million to 280 million with a penetration rate of 18% in
2005, compared to 11% in 2000. The number of mobile subscribers is expected to
reach 260 million to 290 million with a penetration rate of 21% in 2005,
compared to 6.7% in 2000. There will be approximately 200 million subscribers
of data, multimedia and Internet services with a penetration rate of 15%. Based
on preliminary calculations, a total of approximately $150 billion will be
invested in the telecommunications industry, which is 20-30% higher than the
total investment under China's Ninth Five-Year Plan.
In addition to the growing competition and increased infrastructure investment
we anticipate among China's domestic telecommunications service providers, we
expect future demand for telecommunications infrastructure solutions to be
driven by foreign investment. On December 11, 2001, after fifteen years of
negotiations, China
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became a member of the World Trade Organization, or WTO. Pursuant to the terms
of China's accession to the WTO, China has agreed to allow foreign investment
in domestic telecommunications enterprises for the first time. Under the
implementing regulations that recently came into effect in China, foreign
equity participation in the telecommunications sector will take the form of
Sino-foreign joint ventures, and is expected to be phased in over a six year
schedule. By the end of 2007 foreign investors will be permitted to own up to
49% of China's fixed-line and mobile telecommunications businesses, and up to
50% of so-called value-added telecommunications businesses, which include
Internet service providers and Internet content providers.
China's liberalization of the foreign investment regime under the WTO is likely
to introduce competition from foreign Internet and telecommunications services
providers. We believe that increased competition from new market entrants will
cause existing telecommunications service providers to invest more heavily in
effective network management systems, operation support systems, and related
technology support platforms in order to maintain their competitive advantages
and sustain long-term development. With the rapidly increasing number of
subscribers and the restructuring of China's telecom industry, the competitive
focus will move from pricing to quality and product differentiation, while the
investment focus will move from network construction to operation support
systems that help carriers increase service quality and customer satisfaction,
and reduce time to market. In 2001, this trend was evident among almost all the
major service providers in China. China Mobile and China Unicom began operation
support system projects, while China Telecom planned an upgrade of its system
and began building integrated call centers.
MARKET OPPORTUNITIES
We believe the important trends in the telecommunications industry in China, as
described above, present major opportunities for us in the following areas:
NETWORK CONSULTING, INTEGRATION AND MANAGEMENT SERVICES. With the broad usage
of Internet technology and the development of Internet applications,
telecommunications networks will become more complex, more customized and more
difficult to manage. The deployment of telecommunications and Internet
infrastructure in a complex, multi-vendor environment requires significant
expertise that usually is not internally available to Chinese
telecommunications services providers. As a result, they rely on experienced
information technology, or IT, services companies like us to provide total
solutions to their telecommunications and Internet infrastructure requirements
in order to increase network efficiency, differentiate their services and
ensure service quality. We believe that as the telecommunications market
develops in China, our customers will continue to require high value IT
services such as network design, network planning, network security and project
management, and new high-end solutions such as operation support system
solutions and wireless solutions.
MISSION CRITICAL OPERATION SUPPORT SYSTEM, OR OSS, SOFTWARE AND SERVICES. As a
result of increased competition, telecommunications and Internet service
providers in China are investing in OSS solutions to manage their fast growing
businesses, meet the varying needs of their customers and reduce time to
market. Telecommunications and Internet service providers in China are now
focusing on differentiating their services, rather than competing solely on
price. They are investing in customer care and support in order to study
customer behavior and enhance customer satisfaction. Telecommunications and
Internet service providers in China must be able to monitor customer activity,
bill customer usage on a real-time basis, and scale services to millions of
users in order to facilitate the rapid growth of their subscriber bases. These
mission-critical needs cannot be met by traditional customer care and billing
solutions that are inflexible, capable only of period processing, and difficult
to scale. Our experience indicates that service providers in China prefer real-
time, scalable and reliable billing and business management software and
services that support their packaged services, flexible pricing policies and
integrated customer care initiatives.
CONVERGENT APPLICATION SOFTWARE. The emergence of convergent communications has
created an increasing demand for convergent software and solutions. Providers
of convergent communications services, such as Internet protocol telephony and
wireless data services, require customer care and billing software that is
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capable of accounting for and billing their customers' voice, data and Internet
usage using common architecture. In addition, they need software products that
enable them to provide convergent communications applications such as unified
messaging products integrating email, voicemail, fax and messaging functions.
BROADBAND NETWORK SERVICES AND APPLICATION SOFTWARE. As a result of increased
competition in China's telecommunications and Internet markets, carriers with
narrowband networks are now aggressively upgrading to broadband networks with
new service offerings. As a result, service providers in China have
significantly accelerated their investment in broadband solutions for their
backbone and provincial access networks, such as unified messaging, media
streaming, video conferencing and wireless data related applications, to boost
network usage and to generate revenue. This trend is providing us with
opportunities to showcase our network consulting services, billing software and
application software.
OUR STRATEGY
Our strategy is to be the leading China-based company providing world class
network integration and management solutions, and to continue to enable our
customers to build, maintain, operate, manage and continuously improve their
telecommunications and Internet infrastructure. The key aspects of this
strategy include the following:
MAINTAIN OUR LEADING POSITION IN PROVIDING INTERNET AND TELECOMMUNICATIONS
INFRASTRUCTURE SOLUTIONS IN CHINA. With over seven years of experience in a
fast-growing market, we are a leading provider of network integration services
and software solutions to the largest telecommunications companies in China.
Based on forecasted growth as reported by Internet Data Corporation (IDC), as
well as communications with our customers and government agencies, we expect
investment in China's telecommunications industry to continue to grow rapidly.
We expect most of this investment to be made through our customers, which are
the largest telecommunications service providers in China. We believe that our
close relationships with our customers, our unique understanding of the China
market, our technical capabilities and our proven track record will allow us to
capitalize on these growth opportunities.
EXPAND OUR INTERNET-CENTRIC PRODUCTS AND SOLUTIONS TO SUPPORT THE OVERALL
TELECOMMUNICATIONS INDUSTRY. By designing and building most of China's major
commercial Internet backbones, we established our company as the leading
Internet infrastructure solutions provider in China. Our reputation in that
market has allowed us to grow our business as a provider of software and
solutions in vertical telecommunications markets. For example, our suite of
operation support system solutions has allowed us to capitalize on
opportunities in the wireless telecommunications market. Our recent acquisition
of Bonson, another leading company in China's wireless OSS market, has given us
the largest market share among solutions providers in that market. We
anticipate that our future growth in other vertical telecommunications markets
will be driven both organically and through further strategic acquisitions and
partnerships.
FOCUS ON HIGH VALUE INFORMATION TECHNOLOGY PROFESSIONAL SERVICES. Currently, we
offer our information technology professional services primarily in the context
of total solutions, which include systems integration and customization of our
proprietary and third party software. We minimize our exposure to hardware
risks by placing orders from hardware vendors only against back-to-back orders
from customers and having the equipment delivered by the vendor directly to the
customers' premises. As the IT market matures in China, we are focusing on
providing our customers with high value IT professional services, such as
network planning, design and optimization, while gradually outsourcing lower
end services, such as hardware installation, and encouraging customers to
purchase hardware directly from equipment vendors.
LEVERAGE OUR HIGH QUALITY CUSTOMER BASE TO GENERATE RECURRING REVENUES. We have
a high quality group of customers and, through our customers' end users, one of
the largest installed software customer bases (as measured by the number of
licensed end users) for leading telecommunications service providers and
Internet content and service providers in China. Our customers include China
Telecom, China Mobile, China Unicom, China Netcom and China Railcom, which
together have accounted for a majority of the investment in Internet
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and telecommunications infrastructure in China. Our high quality customer base
enables us to foster close relationships with our customers and develop in-
depth understandings of their specific needs. Furthermore, our customers may
face significant costs and technological risks by switching from our services
and products to others. We generate recurring revenues from our existing
customer base through upgrades of their networks and implementation of new
services and products, including outsourced applications.
ATTRACT AND RETAIN HIGHLY QUALIFIED PERSONNEL. We intend to continue our
aggressive recruiting strategy to attract and retain the best and most
qualified personnel in the IT industry. In view of the specific needs of the
China market, we target our recruitment effort on Chinese citizens who have
information technology and professional competence and extensive exposure to
western education and management practices. We believe that we have been able
to attract and retain qualified personnel by offering them the following key
benefits:
. attractive compensation packages, including stock options;
. a challenging and rewarding work environment in which our employees have
opportunities to enhance their technical knowledge; and
. the opportunity to work for a company with an attractive image in China,
which has been greatly enhanced by our becoming a public company in the
United States in March, 2000.
Our current senior management consists of Chinese citizens, all of whom were
either educated at western universities or worked for leading international IT
companies. We continue to recruit senior software engineers from Silicon Valley
to spearhead our software product development.
OUR COMPETITIVE STRENGTHS
We believe that we are well positioned to continue meeting our customers'
network infrastructure and software needs in China. The key factors that
contribute to our strong competitive position are:
TELECOMMUNICATIONS INFRASTRUCTURE TECHNOLOGY LEADERSHIP IN CHINA. Our
engineering personnel have state-of-the-art expertise in telecommunications
infrastructure technologies in China. This expertise enables us to design and
implement network technology that is suitable for the Chinese market and that
employs high quality design and validated hardware and software components, and
to deliver solutions with high performance-to-cost ratios for our customers.
COMBINED INTERNATIONAL AND CHINA EXPERTISE. Our senior management is a Chinese
team, a majority of whom have been educated in the United States or have worked
with leading multinational companies in or outside of China. They have an in-
depth understanding of the China market, combined with a knowledge of best
management practices gained from some of the world's leading information
technology companies. We have well defined performance evaluation and reward
systems and a strong emphasis on sound, accountable corporate governance. We
believe that the unique strengths of our management team make us one of the
best managed China-based companies, and make us well positioned to anticipate
and capitalize on market opportunities for our business in China.
REAL-TIME, SCALABLE AND ADAPTABLE SOFTWARE. Our software allows service
providers to monitor user activity and analyze service usage data in real time.
The real time feature enables service providers to increase billing accuracy,
accelerate the time-to-market for new services and improve the effectiveness of
marketing and targeting efforts. The scalability of our software allows
telecommunications service providers to develop their network infrastructure
incrementally as their level of business grows, without the need for
architecture re-engineering or large-scale system replacements. In addition,
our software products are designed with fully documented, open architecture
that allows our customers, as well as third party systems integrators and
software developers, to integrate our software with existing applications and
services with minimal effort and programming overhead.
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ESTABLISHED CUSTOMER RELATIONSHIPS. We have close relationships with all
leading telecommunications and Internet service providers in China and have
provided our services and products to most of them. Our in-depth understanding
of their requirements allows us successfully to deliver customized solutions
and maximize the opportunities created by increased investment in
telecommunications and Internet infrastructure in China. Moreover, we have
strong customer service and research and development teams based in China,
which allow us to respond quickly and inexpensively to the needs of our
customers in China.
PRODUCTS AND SERVICES
We provide telecommunications network integration and management solutions to
the leading telecommunications service providers in China. We offer these
solutions to our customers by leveraging our core strengths in information
technology services and software, and maintaining close relationships with
multiple hardware and third party software vendors. Substantially all of our
network integration and management solutions business is accounted for by the
various provincial entities of China Telecom and China Mobile, as well as China
Unicom and China Netcom. Our longstanding relationships with these customers
and our understanding of their specific requirements make us well positioned to
respond to their requests for proposals.
Our product offerings, or "solutions" as they are called in the
telecommunications industry, fall into four categories:
. network infrastructure solutions;
. operation support system, or OSS, solutions;
. service application solutions; and
. network security solutions.
As part of each of these solutions, we offer a combination of services and
software products to our customers.
Network Infrastructure Solutions
This core area of our current business includes network access and backbone
infrastructure design and implementation for telecommunications and Internet
service providers. Our network infrastructure solutions support a wide array of
broadband network technologies. Network infrastructure solutions projects
involve one or more of the following services:
. Network planning. We provide our customers with strategic and tactical
reviews of their current network operations and future network requirements.
We do much of this work before the customer awards the contract in order to
assist them in developing an appropriate request for proposal and to improve
our chances in winning the contract. The planning includes defining client
business requirements, developing appropriate information architectures and
selecting preferred technology.
. Network design. We detail the network specifications and implementation
tactics necessary to achieve our customers' objectives. We also consider how
the new technology will integrate with the customer's existing hardware and
software and how it will be managed on an ongoing basis. Examples of
services include defining functional requirements for the network and its
components, development of multi-vendor integration plans and design of
customer-specific network and service applications.
. Network implementation. We install the recommended systems to meet our
customers' network requirements. Key activities include project management,
hardware and software procurement, configuration and field installation and
testing, building network management centers and development of customized
network and services management applications. We believe that our expertise
in integrating new systems without disrupting ongoing business operations of
our customers adds significant value and reduces risks.
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. Network optimization. We maximize the efficiency of communications networks
by improving network utilization. Examples of our services include network
traffic analysis and identification of bottlenecks, recommendations for
efficient allocation of bandwidth, fault detection and isolation,
performance testing and tuning, and security auditing and improvement.
. Network performance. We conduct network performance audits and tuning
services to improve overall network performance. This involves recommending
more efficient bandwidth allocation and reducing network latency and
response time for applications.
. Maintenance and support services. We provide maintenance and technical
support in connection with all of our network infrastructure and systems
integration projects, content and network access provider platforms, and our
proprietary software products. These services currently include assistance
with the implementation of new information technology functions and/or
features, configuration and programming services for new business processes,
warranty repairs, and assistance in the case of technology upgrading. Our
policy of on-going maintenance and technical support helps us to foster
long-term relationships with our customers.
. Training. We provide technical training for our customers and strategic
partners to increase their awareness and knowledge of network technologies
in the Chinese information technology market and to support the operations
of our customers' integrated network systems. Our training courses address
issues relating to daily operations of network systems. Specific topics
include daily network management tasks, advanced network troubleshooting,
introductory network framework reviews, and advanced planning and design.
Our network infrastructure solutions projects give us an intricate
understanding of our customers' Internet infrastructure requirements and allow
us to understand the software requirements that are needed to support those
infrastructures. Software products within our network infrastructure solutions
include AISerBase and AIVelosurf.
AISERBASE. On April 2, 2001, we released our service-oriented network
management software product--AISerBase. Driven by an increasing demand for
sophisticated network management software, AISerBase offers high-end network
management features. AISerBase manages all aspects of a network environment,
including hardware, applications, services and customers at four different
layers: equipment, application, service and business.
Several unique characteristics of AISerBase differentiate it from other network
management software products. For large-scale networks, AISerBase groups and
manages systems by service category such as leased line services, dial-up
services and web services. This structure enables operators to streamline
management processes and prioritize management tasks in an organized fashion.
More importantly, the service-oriented management structure offers flexibility
to operators to provide multiple services in a convergent environment.
Furthermore, while traditional network management software products only deal
with static network elements such as hardware, AISerBase also manages dynamic
factors such as usage patterns.
With AISerBase, network operators, particularly telecommunications carriers and
Internet data centers, are able to improve their service offerings and quality
in the following ways:
. through its multi-vendor support feature, AISerBase significantly increases
the cost efficiency of network management activities;
. by monitoring and assessing network traffic in real time, AISerBase collects
and analyzes statistical data on the system by service category, which can
be used to manage service level agreements and make sound investment
decisions for network expansion; and
. AISerBase facilitates many customer-oriented value-added services such as
customer self-evaluation on service usage.
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AIVELOSURF. Our network optimization software, AIVelosurf, was launched in
September 2001. The software is designed to accelerate data transmission on
wireless data networks. With embedded data compressing technology, AIVelosurf
is able to speed up narrow-band network access by two to six times and support
carrier-scale capacity. Developed entirely in-house using proprietary
technology, AIVelosurf is designed to address bandwidth bottlenecks at the
"last mile" of an advanced second generation, or 2.5G, network and requires
minimal customization efforts. By offering applications that demand high-speed
data transmission, AIVelosurf enables carriers to generate new revenue streams
from existing wireless data infrastructure without much additional investment,
long before third generation, or 3G, networks reach maturity.
Operation Support System, or OSS, Solutions
Our operation support system solutions allow our customers to manage their
network infrastructure utilizing our proprietary and third-party software tools
and applications. Operation support system solutions projects involve one or
more of the following services:
. designing and implementing network management centers for our clients;
. installing proprietary and third party software products;
. customizing software applications that allow our clients to perform
activities such as customer care and billing, services offerings and
promotions, provisioning and monitoring network utilization and customer
service levels; and
. providing technical training and support to our clients.
Software products within our operation support system solutions include
AsiaInfo Online Billing System (AIOBS) and AsiaInfo Convergent Billing System
(AICBS).
ASIAINFO ONLINE BILLING SYSTEM (AIOBS). Our flagship online billing software,
AIOBS, is an integral part of our operation support system solutions offerings.
The latest version of this Internet and Internet protocol telephony customer
care and billing software, AIOBS 6.2, was released in November 2001. AIOBS 6.2
is a real time, scalable solution that enables Internet service providers to
address mission critical needs such as customer care, services support, and
accurate and timely billing. First launched in 1996, this third generation
software product today offers tremendous improvements in architecture,
functionality and capacity. AIOBS 6.2 enables Internet service providers and
Internet protocol telephony providers to:
. manage, authenticate and register users, create user accounts, check account
status and activate services;
. monitor and analyze user activity, "map" individual user consumer behavior
and perform audit trials on user accounts;
. price and rate a broad array of services, discount services and promotions
using multiple bases and resources, such as time of usage, bytes
transferred, size of server storage and number of page views; and
. perform billing operations based on flexible billing cycles and manage user
accounts receivable.
AIOBS 6.2 also allows service representatives and customers to access selected
user data to create, search and modify user accounts, change certain personal
information and perform other customer self-care functions using a browser-
based interface.
In addition, AIOBS 6.2 provides many features tailored to the China market,
including:
. caller ID usage-based and restricted line services that allow telephone
customers to log on to the Internet without first registering with Internet
service providers, with usage-based fees charged to their regular monthly
telephone bills, and to log on only from certain, specified phone numbers;
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. a roaming service that allows registered customers from different Internet
service providers to log on to the Internet from each other's territories,
an important feature since most Chinese Internet service providers operate
and recruit users locally; and
. a restricted credit (pre-paid card) service that allows customers to use the
Internet with monthly monetary or usage-based limits, with real time cut-off
the instant the credit limit is reached.
ASIAINFO CONVERGENT BILLING SYSTEM (AICBS). Our convergent billing software,
AICBS, offers real time, scalable solutions for customer care and billing
operations of wireless and long-distance telephony service providers,
including:
. customer care, together with customer service, hierarchies and rapid report
management;
. call center support, including usage processing;
. fraud detection and management;
. billing and revenue management features, including accounts receivable and
collection; and
. inter-carrier settlement.
With AICBS, we pioneered the fraud management software market in China, which
has seen increasing customer demand. We believe AICBS is also the only customer
care and billing software used by Chinese operators that supports wireless
services based on the Code Division Multiple Access, or CDMA, standard in
addition to the GSM standard.
AIOMNIVISION. Our new analytical customer relationship management, or CRM,
software product marks our entry into the emerging market for
telecommunications customer relationship management. With embedded technology
ingredients such as data warehousing, online analytical process and data
mining, AIOmniVision enables carriers to make management decisions based on
analysis of customer behavior, competitive environment, business profitability
and other parameters. The system is able to proactively generate business
operation reports, which serve as a basis for top management decisions.
AIOmniVision allows service providers to:
. understand and maximize business value from their existing customers;
. identify and focus on profitable customer groups;
. explore and attract potential customers;
. improve service quality and ensure customer satisfaction and retention;
. enhance return on investment of new service offerings;
. increase service usage and network utilization; and
. improve efficiency and reduce costs.
In the future, AIOmniVision will include product enhancements such as customer
credit analysis, customer behavior analysis, marketing campaign automation, and
up-sell/cross-sell modules.
Service Application Solutions
We design and provide applications for Internet access, Internet protocol
telephony and virtual private networks that allow our clients to provide
commercial services to their customers. We also provide high volume messaging
software and services, and web-based as well as other Internet applications.
Service application solutions projects involve one or more of the following
services:
. installing proprietary software products;
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. customizing software applications for our clients;
. providing technical training and support;
. providing on-site maintenance services; and
. providing consulting services on our AsiaInfo Mail Center (AIMC) software,
which includes assisting clients in running and monitoring AIMC, providing
monthly management reports and advising on system upgrades.
Software products within our service application solutions include AIMC and
AsiaInfo Unified Messaging System (AIUM).
ASIAINFO MAIL CENTER (AIMC). Our flagship online messaging software, AIMC, is
an integral part of our service application solutions offerings. AIMC is
carrier-scale messaging software designed to support electronic mail systems
from small Internet service providers to large-scale mail hosting providers
with millions of mailboxes and thousands of domains. Its flexible design allows
service providers to offer web-based free e-mail, basic e-mail service and
premium business secure e-mail to end-users. The ability to scale both
horizontally and vertically allows rapid expansion when more capacity is
needed. The system is built to accommodate clustering technology and is highly
fault tolerant. In addition to major telecommunications and Internet service
providers, top Internet content providers in China such as chinadotcom and
21cn.com are also among the key customers for AIMC.
ASIAINFO UNIFIED MESSAGING SYSTEM (AIUM). AIUM is an information-exchanging
platform for wire, wireless and Internet networks providing customers complete
access to message transmission and retrieval. AIUM gives the user freedom to
choose among various media, such as e-mail, telephone, facsimile and mobile
telephone, to send and retrieve messages.
Network Security Solutions
We provide high-end network security solutions through our majority-owned
subsidiary, Marsec. Through Marsec, we provide security solutions to
telecommunications carriers, Internet data centers, Internet content providers
and Internet service providers using third party software applications. Our
network security solutions include the following services:
. assessing, designing and deploying network security systems of our clients;
. managing network security systems for our clients; and
. providing technical training and support to our clients.
STRATEGIC ACQUISITIONS AND ALLIANCES
We enter into strategic acquisitions and alliances in order to further our
business objectives, including:
. expanding our product and service offerings;
. entering vertical markets and obtaining complementary technology; and
. increasing our distribution channels and co-marketing opportunities.
Our business development team, which includes former investment banking
professionals from major international financial institutions, is continuously
exploring acquisition and investment opportunities in order to fulfil these
objectives. To date, our strategic investments have included the following:
BONSON. In February of 2002 we completed our acquisition of Bonson Information
Technology Holdings Limited, or Bonson, a leading provider of operation support
system solutions to China's wireless telecommunications carriers. We acquired
Bonson for a combination of cash and shares of our common stock
13
valued at a total of approximately $47.3 million. Combined with our existing
share of the wireless OSS solutions market in China, our acquisition of Bonson
has given us the largest share of any participant in that market. For further
information on the acquisition of Bonson, please see the discussion above under
the heading "Recent Developments--Bonson Acquisition."
INTRINSIC. In April 2001, we invested approximately $6.2 million in shares of
Intrinsic Technology (Holdings) Ltd., or Intrinsic, representing 14.25% of the
company's outstanding equity capital. Intrinsic is a leading provider of
wireless Internet infrastructure products and solutions in China. In connection
with this investment, we also received an option to acquire a majority stake in
Intrinsic at a price to be determined on the basis of Intrinsic's future
performance.
MARSEC. In September 2000, we committed to invest $2 million in connection with
the establishment of our majority-owned subsidiary, Marsec System Inc., or
Marsec. Marsec is a high-end network security solutions provider focusing on
security assessment, security system design and implementation, and security
support services. We co-market Marsec's security solutions with our other
solutions and have helped Marsec to win significant network security projects
for Shanghai Online, a subsidiary of China Telecom, and Jitong Communication.
We own approximately 79% of Marsec's outstanding share capital, and the rest is
held by Marsec's employees.
In addition to acquisition and investment opportunities, our business
development team has secured numerous strategic alliances in furtherance of our
business objectives. To date, our major strategic alliances include alliances
with Ericsson, Redback Networks and Huawei Technologies, in which we have
integrated our AIOBS software with the products of those companies in order to
create new distribution channels for our software.
PRICING
We currently price our software products based on the number of user licenses
which our customers purchase from us (except for AIOmniVision, which is priced
based on modules, functions and requirements for follow-on services). In
addition to these license fees, our customers purchase technology support
services for which they pay a service fee comprised of a fixed percentage of
the total contract amount. We charge our customers for software customization
on a time plus materials basis. The pricing of our messaging software, AIMC, is
based on the total number of mail boxes purchased by our customers. However,
the unit price for each mail box differs among free web-based e-mail service,
basic ISP-provided Internet e-mail and business secure e-mail offerings.
Prices for our network solutions projects are calculated internally on an
estimated time and material basis, but are quoted to customers as a fixed fee.
Contracts for these projects are generally subject to competitive bidding
processes.
TECHNOLOGY
Internet customer care and billing software. Our Internet and Internet protocol
telephony customer care and billing software, AIOBS, is designed to allow
maximum flexibility, scalability and performance. It has state-of-the-art,
four-tier client/server architecture. This multi-tier architecture, coupled
with other technologies, gives our software the following advantages:
. Flexibility. Because we use a data dictionary-based data model to collect
data from databases and other resources, data definitions, such as new
entries of demographic information, can be customized without any code
modification.
. Minimum interruption of existing services. The system is built on dynamic
component modules which can be modified separately when a new product is
introduced and updated without system downtime.
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. Ease of customization. Our software offers fully documented application
programming interfaces that support standard scripts. As a result, our
customers can build client applications without compilation and can
customize and write new user interface applications with minimum training.
CONVERGENT BILLING SOFTWARE. Our convergent billing software, AICBS, also
utilizes state-of-the-art multi-tier architecture to achieve flexibility,
scalability and real-time performance. We are designing new architecture to
support convergent customer care and billing solutions for combined Internet,
Internet protocol telephony and traditional voice services. The technologies we
employ have given our wireless and long-distance telephony software advantages
such as well-designed applications for high performance under high capacity
subscribers and have enabled the software to ensure transaction integrity.
MESSAGING SOFTWARE. Our carrier-scale messaging software supports service
providers with a large number of subscribers and large volumes of messages. We
use the following technologies to achieve scalability and optimize performance:
. advanced software technology that allows AIMC to scale both horizontally, by
adding more servers, and vertically, by using higher speed or multiple
central processing units, to handle subscriber growth without compromising
system performance and hardware investment;
. switching technology that distributes workloads in a manageable and flexible
fashion and allows customers to easily add, remove or reconfigure running
systems without downtime in a live production environment; and
. storage area network, or SAN, technology that offers speedy, reliable and
secure access to the data storage subsystem with ultra-high capacity
databases.
We closely monitor world-wide technological developments in our service and
product areas. In developing these and other technologies, we sometimes source
knowledge and products from major international technology companies.
Cooperation with global technology leaders improves our access to the most
sophisticated technologies, which enables us to provide the latest and best
services and software products to our customers.
RESEARCH AND DEVELOPMENT
We are committed to researching, designing and developing information
technology solutions and software products that will meet the future needs of
our customers. In the information technology solutions areas, we focus our
research and development efforts on operation support system solutions, service
application solutions and network security solutions. We are currently
developing a number of upgrades of our existing software products to enhance
scalability and performance and provide added features and functions. In
addition, we are designing a wide array of new software products to address our
customers' growing need for convergent communications, such as unified
messaging products and convergent network management solutions.
The focus of our network solutions research is on new network technology
development and the evaluation of solutions based on multi-vendor products. The
focus of our software research is on architecture study, software development
platforms, commonly used libraries and other software management tools. We plan
to expand our research and development efforts further by adding more personnel
and financial resources.
CUSTOMERS
Our customers currently consist primarily of Chinese telecommunications service
providers, including China Telecom, China Unicom, China Mobile, China Netcom
and China Railcom. We are continuing to expand and diversify our customer base.
For the year ended December 31, 2001, China Telecom accounted for 45% of our
revenues net of hardware costs, while China Unicom accounted for 28%, China
Mobile accounted for 13%, China Netcom accounted for 6%, and other customers
accounted for 8%. Our customer base is changing and diversifying quickly as the
overall China telecommunications market grows due to deregulation and
significant
15
investment from several new players. This diversification not only reduces our
dependence on a small group of large customers, but also causes us to expect
strong and consistent growth in revenues net of hardware costs on a year over
year basis. For more information on recent restructurings and regulatory
changes affecting our customers, please see the discussion above under the
heading "Industry Background" and the discussion below under the heading
"Government Regulation."
CHINA TELECOM. China Telecom is the oldest voice and data communications
provider in China and has been our largest customer to date. As a result of the
restructuring of China's telecommunications industry that began in February
1999, China Telecom operates only fixed-line networks and provides fixed-line
telephone and data communications services. China Telecom and its various
provincial subsidiaries accounted for almost all of our revenues in 1997 and
1998. As part of the industry reorganization announced by China's State Council
in December 2001, the northern division of China Telecom (comprising ten
provinces) will merge with China Netcom and Jitong Communication, and will use
the China Netcom name. The southern division (comprising 21 provinces) will
continue to operate under the China Telecom name.
CHINA UNICOM. China Unicom was established in 1994 and is the second-largest
national public telecommunications network in China. China Unicom is China's
second largest mobile operator, providing services to over 39 million mobile
customers through its digital mobile (GSM) network and since January 2002, its
second generation, or 2G, CDMA network. China Unicom also provides a wide array
of services, including long distance telephone services, local telephone
services, data communications services, paging services, communications value-
added services and other communications services.
CHINA MOBILE. China Mobile was established in July 1999 to operate mobile
telecommunications networks nationwide that had previously been operated by
China Telecom. China Mobile is the largest wireless telephony service provider
in China with over 101 million subscribers and, like China Telecom, has various
provincial subsidiaries throughout China which are responsible for local
networks. China Mobile's digital mobile (GSM) network covers all of China's
cities and 96% of its counties. In addition to mobile services, the company
operates an Internet protocol telephony service and is an Internet service
provider.
CHINA NETCOM. China Netcom was formed in 1999 to build and operate a high-speed
telecommunications network initially linking 15 large Chinese cities. The new
network, one of the world's fastest fiber-optic backbones, is based entirely on
Internet protocol technology. It will also take advantage of existing cable
television networks, which will be linked to the system via fiber-optic and
fixed-wireless technology. China Netcom also acts as a bandwidth wholesaler for
Internet service providers, corporations and other telecom carriers in China.
As part of the industry reorganization announced by China's State Council in
December 2001, China Netcom will be merged with the northern division of China
Telecom and Jitong Communication, and the combined business will operate under
the China Netcom name.
CHINA RAILCOM. China Railcom was established in December 2000 and is the newest
of the six licensed telecommunications service providers in China. With the
second largest fixed communications network in China, it is a multi-service
vendor, providing long distance and local fixed-line services, as well as data
communications services. China Railcom is 51% owned by China's Ministry of
Railway and 49% owned by 14 railway bureaus.
SALES AND MARKETING
Sales
We market and sell our services and products primarily through our direct sales
force. Our direct sales professionals provide business consulting, promote pre-
sale activity and manage our relations with our customers. Our sales teams are
organized along the lines of our product offerings: network infrastructure
solutions, operation support system solutions, service application solutions
and network security solutions. We employ direct sales personnel in regional
offices in Beijing, Shanghai, Wuhan, Chengdu and Guangzhou.
16
We classify market segments and target opportunities on national and regional
levels. This classification helps us determine our primary sales targets and
prepare monthly and quarterly sales forecasts. Sales quotas are assigned to all
sales personnel according to annual sales plans. We approve target projects,
develop detailed sales promotion strategies and prepare reports on order
forecast, technical evaluation, sales budgeting expense, schedules and
competition analysis. After a report has been approved, a sales team is
appointed consisting of sales personnel, system design engineers and a senior
system architect.
Marketing
Our marketing strategy focuses on building long-term relationships with our
customers, educating them about technological developments and generating their
interest in our services and products. Historically, our marketing and sales
efforts were combined. As our businesses expanded and the marketplace became
increasingly sophisticated, we established a dedicated marketing department in
1998. Currently, we have independent marketing teams for each of our three
strategic business units (network infrastructure solutions, operation support
system solutions and service application solutions), and Marsec also has its
own marketing team for network security solutions. These departments
continuously analyze the needs of our customers, our competitive environment,
the market potential of our products and services, and the effectiveness of our
pricing and distribution channel strategies.
In addition to our marketing departments, we have a market communications, or
marcom, department, which engages in a number of activities aimed at increasing
awareness of our products and services. These activities include:
. managing and maintaining our web site;
. producing corporate and product brochures and monthly customer newsletters;
. conducting seminars and media conferences;
. conducting ongoing public relations programs; and
. creating and placing advertisements.
COMPETITION
The market for telecommunications and Internet infrastructure solutions in
China is new and rapidly changing. Our competitors in the network
infrastructure solutions market mainly include domestic systems integrators
such as Zoom Networks and Openet Information Technology (Shenzhen) Corporation.
Although we are a leading player in this market, there are many large
multinational companies with substantial, existing information technology
operations in other markets in China, that have significantly greater
financial, technological, marketing and human resources than us. Should they
decide to enter the network infrastructure solutions market, this could hurt
our profitability and erode our market share.
In the operation support system solutions market, we compete with both
international and local software and solutions providers. In the online billing
segment, we compete primarily with Portal Software, MIND C.T.I. Ltd. and Zoom
Networks, and in the wireless billing segment, we compete with more than ten
local competitors. Currently, due in part to a stringent approval system for
providers of wireless billing software in China and competitive pricing offered
by domestic companies, some multinational information technology companies have
been deterred from entering this market. In view of the gradual deregulation of
the Chinese telecommunications industry and China's accession to the WTO, we
anticipate new competitors will enter the operation support system solutions
market.
The service application solutions sector is highly competitive. Our principal
competitor in this sector is Openwave Systems Inc. (formerly Software.com).
17
In the network security solutions market, we mainly compete with Information
Security One Limited, Nsfocus Information Technology Co., Ltd., and 21ViaNet
China Inc. An increasing number of companies are devoting their resources to
this sector in developing network security products. Through mergers and
acquisitions, many information technology companies are entering the network
security solutions market as part of their strategy of providing a full range
of system integration services.
We believe that we have competitive advantages in all of our product and
service segments due to our network infrastructure technology leadership,
combined international and China expertise, established customer relationships
and our high performance, scalable, flexible software. Our competitors, some of
whom have greater financial, technical and human resources than us, may be able
to respond more quickly to new and emerging technologies and changes in
customer requirements or devote greater resources to the development, promotion
and sale of new products or services. It is possible that competition in the
form of new competitors or alliances, joint ventures or consolidation among
existing competitors may decrease our market share. Increased competition could
result in lower personnel utilization rates, billing rate reductions, fewer
customer engagements, reduced gross margins and loss of market share, any one
of which could materially and adversely affect our profits and overall
financial condition.
GOVERNMENT REGULATION
The Chinese government has generally encouraged the development of the
information technology industry, and the products and services we offer are not
currently subject to extensive government regulation. The Internet and
telecommunications industry in which our customers operate, however, is subject
to government regulation and control. Currently, all the major
telecommunications and Internet service providers in China are primarily state
owned or state controlled and their business decisions and strategies are
affected by the government's budgeting and spending plans. In addition, they
are required to comply with regulations and rules promulgated from time to time
by China's Ministry of Information Industry, or MII, and other ministries and
government departments.
In September 2000, China published the Regulations of the People's Republic of
China on Telecommunications, also known as the Telecommunications Regulations.
The Telecommunications Regulations are the first comprehensive set of
regulations governing the conduct of telecommunications businesses in China.
The principles expressed by the Telecommunications Regulations reflected on
China's commitment to accede to the WTO. In particular, the Telecommunications
Regulations set out in clear terms the framework for operational licensing,
interconnection, the setting of telecommunications charges and standards of
telecommunications services in China.
The Circular on the Structural Adjustment of Telecommunication Charges, issued
in December of 2000, reduced telecommunications service and Internet service
fees in China, such as Internet access fees and leased line renting fees,
permitting Internet protocol telephony operators, paging business operators,
web hosting service providers and certain other value added service providers
to set their prices based on their own cost structure and competitive strategy.
We believe this Circular will have a positive impact on our business because,
with the decline in telecommunications and Internet services fees, China's
Internet population and tele-density are likely to grow, which in turn will
likely generate more demand for our products and services. In addition, with
declining leased line tariffs, more and more enterprises will be able to afford
to use the Internet as a business tool.
Under regulations introduced in December of 2001, foreign investors are now
permitted to invest in China's telecommunications industry through Sino-foreign
joint ventures. These important regulatory changes came about as a result of
China's accession to the WTO. The new regulations, known as the Provisions on
the Administration of Foreign-Invested Telecommunications Enterprises, are
expected to be implemented over a six year schedule agreed upon in connection
with China's WTO accession. Under the schedule, by the end of 2007 foreign
investors will be permitted to own up to 49% of fixed-line and mobile
telecommunications businesses in China, and up to 50% of so-called value-added
telecommunications businesses, which include Internet service providers and
Internet content providers.
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Notwithstanding the recent developments in China's telecommunications
regulations, many laws and regulations applicable to the telecommunications
industry in China are still evolving and unsettled. There are certain approval
and registration procedures in place for Internet users who wish to have access
to Internet-related services. In September 2000, China's State Council approved
the Administrative Measures on Internet Information Services. The
Administrative Measures on Internet Information Services provide for control
and censoring of information on the Internet. A restrictive regulatory
environment for our customers could adversely affect our business. For a
further discussion of the changing regulatory environment in China, please see
the discussion below under "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operation--Factors Affecting Our Operating
Results and Our Common Stock--Laws and regulations applicable to the Internet
in China remain unsettled and could have a material adverse affect on the
Internet's growth and thereby have a material adverse affect on our business."
INTELLECTUAL PROPERTY
Our success and ability to compete depends in part upon our intellectual
property rights, which we protect through a combination of copyright, trade
secret law and trademark law. We have filed five trademark applications with
the United States Patent and Trademark Office, two of which have been passed on
to registration and three of which are currently pending. Our trademark
application covering AsiaInfo's logo and design has been granted by the
Trademark Bureau of the State Administration of Industry and Commerce in China.
In addition, we have filed three trademark applications with the Hong Kong
Trade Marks Registry for AsiaInfo's logo, which are pending. We have also
completed the registration of the copyrights for 43 versions of our software
products with the State Copyright Bureau in China, including the AIOBS series
and the AIMC series. However, although we may apply for such protection in the
future, we have not applied for copyright protection in other jurisdictions
(including the United States, which does not require registration for
protection of copyrights). We do not own any patents and have not filed any
patent applications, as we do not believe that the benefits of patent
protection outweigh the costs of filing and updating patents for our software
products.
We enter into confidentiality agreements with our employees and consultants,
and control access to and distribution of our documentation and other licensed
information. Despite these precautions, it may be possible for a third party to
copy or otherwise obtain and use our licensed services or technology without
authorization, or to develop similar technology independently. Since the
Chinese legal system in general, and the intellectual property regime in
particular, is relatively weak, it is often difficult to enforce intellectual
property rights in China. In addition, there are other countries where
effective copyright, trademark and trade secret protection may be unavailable
or limited, and the global nature of the Internet makes it virtually impossible
to control the ultimate destination of certain of our products. Policing
unauthorized use of our licensed technology is difficult and there can be no
assurance that the steps we take will prevent misappropriation or infringement
of our proprietary technology. In addition, litigation may be necessary in the
future to enforce our intellectual property rights, to protect our trade
secrets or to determine the validity and scope of the proprietary rights of
others, which could result in substantial costs and diversion of our resources
and could have a material adverse effect on our business, results of operations
and financial condition.
EMPLOYEES
Including our recent acquisition of Bonson Information Technology Holdings
Limited, we now have over 850 employees. Most of our employees are represented
by a labor union. Thus far, our operations have not been significantly
disrupted by labor disputes.
We devote significant resources to recruiting professionals with relevant
industry experience. Most of our senior management and technical employees are
western educated Chinese professionals with substantial expertise in
information technologies systems integration and application software
development. We believe that our success in attracting and retaining highly
skilled technical employees and sales and marketing personnel is largely a
product of our commitment to providing a motivating and interactive work
environment that features
19
continuous and extensive professional development opportunities, as well as
frequent and open communications at all levels of the organization. As an
incentive, we have created an employee stock option plan that includes vesting
provisions designed to encourage long term employment.
ITEM 2. Properties
Our principal sales, marketing and development facilities and administrative
offices currently occupy approximately 7,300 square meters in a new building
located in the Beijing Zhongguancun Science Park. The lease has a term of five
years, which expires in February 2005, subject to termination in 2003 if an
agreement on the adjustment of rent cannot be reached at that time. In
addition, we have regional field support offices in various cities in China,
namely Shanghai, Guangzhou, Chengdu, Hangzhou and Wuhan, as well as a regional
office in Santa Clara, California.
ITEM 3. Legal Proceedings
On December 4, 2001, a securities class action case was filed in New York City
against us, certain of our current officers and directors and the underwriters
of our initial public offering, or IPO. The lawsuit alleges violations of the
federal securities laws and has been docketed in the United States District
Court for the Southern District of New York as Hassan v. AsiaInfo Holdings,
Inc., et al. The lawsuit alleges, among other things, that the underwriters of
our IPO improperly required their customers to pay the underwriters excessive
commissions and to agree to buy additional shares of our common stock in the
aftermarket as conditions of receiving shares in our IPO. The lawsuit further
claims that these supposed practices of the underwriters should have been
disclosed in our IPO prospectus and registration statement. The suit seeks
rescission of the plaintiffs' alleged purchases of our common stock as well as
unspecified damages. In addition to the case against us, various other
plaintiffs have filed approximately 1,000 other, substantially similar class
action cases against approximately 300 other publicly traded companies and
their IPO underwriters in New York City, which along with the case against us
have all been transferred to a single federal district judge for purposes of
case management. We intend to seek dismissal of the complaint on various legal
grounds at the appropriate time, but no definitive schedule has been set by the
Court for the filing of such a motion. In addition, we believe that the
underwriters may have an obligation to indemnify us for the legal fees and
other costs of defending this suit and that our directors' and officers'
liability insurance policies will also cover the defense and potential exposure
or settlement of the suit.
ITEM 4. Submission of Matters to a Vote of Security Holders
No matters were submitted during the fourth quarter of the fiscal year covered
by this report to a vote of our security holders.
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PART II
ITEM 5. Market for Registrant's Common Equity and Related Stockholder Matters
Our common stock has been quoted on the Nasdaq National Market under the symbol
"ASIA" since our initial public offering on March 2, 2000. The following table
sets forth, for the periods indicated, the high and low sale prices per share
of our common stock as reported on the Nasdaq National Market.
High Low
-----------------
(in U.S. dollars)
2001:
Fourth Quarter............................................... 21.25 11.10
Third Quarter................................................ 20.00 9.37
Second Quarter............................................... 19.75 9.63
First Quarter................................................ 18.81 7.19
2000:
Fourth Quarter............................................... 19.50 7.38
Third Quarter................................................ 48.00 17.06
Second Quarter............................................... 59.44 30.50
First Quarter (from March 3, 2000)........................... 99.56 60.50
As of March 1, 2002, we had approximately 197 holders of record of our common
stock.
We have never declared or paid any dividends on our capital stock, and do not
intend to pay dividends on our shares of common stock in the forseeable future.
Instead, we intend to retain all earnings for use in our business. Future cash
dividends, if any, will be at the discretion of our board of directors and will
depend upon our future operations and earnings, capital requirements and
surplus, general financial condition, contractual restrictions and other
factors as the board of directors may deem relevant. Any dividends we declare
will be paid in U.S. dollars.
As a holding company, our primary source of cash for the payment of dividends
are distributions, if any, from our subsidiaries. Our operating subsidiaries
were established in China and are able to make distributions of profits to us
only if they satisfy certain conditions under Chinese law, including the
satisfaction of tax liabilities, recovery of losses from previous years and
mandatory contributions to statutory reserves. In addition, loan agreements and
contractual arrangements we enter into in the future may also restrict our
ability to pay dividends.
On March 2, 2000, our Registration Statement on Form S-1 covering the offering
of 5,000,000 shares of our common stock (No. 333-93199) was declared effective.
The underwriters in the offering exercised an over-allotment option to purchase
an additional 750,000 shares of our common stock. The total price to the public
for the shares offered and sold was $138,000,000. The net proceeds of the
offering (after deducting expenses) were approximately $126,610,000. From the
effective date of the Registration Statement through December 31, 2001, the net
proceeds have been used for the following purposes:
Purchase and installation of machinery and equipment.............. $ 6,350,000
Temporary investments, including cash and cash equivalents........ 85,610,000
Investments in subsidiaries....................................... 15,430,000
Research and development and sales and marketing expenses......... 19,220,000
------------
$126,610,000
============
The net proceeds will be used for general corporate purposes, including working
capital, and expenses such as research and development and sales and marketing.
A portion of the net proceeds may also be used to acquire or invest in
complementary businesses or products. None of the net proceeds of the offering
have been paid directly or indirectly to our directors, officers or their
associates, to persons owning 10% or more of our common stock, or to our
affiliates.
21
ITEM 6. Selected Financial Data
The following table sets forth our selected consolidated financial data. You
should read this information together with our consolidated financial
statements and the notes to those statements included in this report, and "Item
7. Management's Discussion and Analysis of Financial Condition and Results of
Operations" beginning on page 23 of this report. The selected statements of
operations data and consolidated balance sheet data in the table below have
been derived from our audited consolidated financial statements. Historical
results are not necessarily indicative of the results to be expected in the
future.
Years Ended December 31,
----------------------------------------------------------
2001 2000 1999 1998 1997
---------- ---------- ---------- ---------- ----------
(Amounts in thousands of U.S. dollars except share and
per share data)
CONSOLIDATED STATEMENTS
OF
OPERATIONS DATA:
Revenues:
Network solutions...... $ 161,131 $ 158,696 $ 53,786 $ 41,964 $ 36,509
Software solutions..... 27,875 17,367 6,494 2,258 775
---------- ---------- ---------- ---------- ----------
Total revenues........ 189,006 176,063 60,280 44,222 37,284
---------- ---------- ---------- ---------- ----------
Cost of revenues:
Network solutions...... 129,712 141,668 41,959 32,188 29,551
Software solutions..... 3,821 3,030 4 1 5
---------- ---------- ---------- ---------- ----------
Total cost of
revenues............. 133,533 144,698 41,963 32,189 29,556
---------- ---------- ---------- ---------- ----------
Gross profit............ 55,473 31,365 18,317 12,033 7,728
---------- ---------- ---------- ---------- ----------
Operating expenses:
Sales and marketing.... 21,768 19,734 8,768 2,408 835
General and
administrative........ 14,905 12,893 8,167 6,463 6,167
Research and
development........... 7,304 5,974 2,838 1,436 394
Amortization of
deferred stock
compensation.......... 1,144 2,209 3,508 1,045 1,045
---------- ---------- ---------- ---------- ----------
Total operating
expenses............. 45,121 40,810 23,281 11,352 8,441
---------- ---------- ---------- ---------- ----------
Income (loss) from
operations............. 10,352 (9,445) (4,964) 681 (713)
Other income (expense),
net.................... 6,107 6,865 352 477 31
Income tax expense
(benefit).............. 3,444 218 383 (256) 267
Minority interests in
(income) loss of
consolidated
subsidiaries........... (396) 32 84 122 567
Equity in loss of
affiliates............. (885) -- (35) -- --
---------- ---------- ---------- ---------- ----------
Net income (loss)....... $ 11,734 $ (2,766) $ (4,946) $ 1,536 $ (382)
========== ========== ========== ========== ==========
Net income (loss) per
share:
Basic.................. $ 0.28 $ (0.07) $ (0.34) $ 0.11 $ (0.03)
========== ========== ========== ========== ==========
Diluted(/1/)........... $ 0.26 $ (0.07) $ (0.34) $ 0.05 $ (0.03)
========== ========== ========== ========== ==========
Shares used in
computation:
Basic.................. 41,525,159 37,239,649 14,630,145 13,616,412 13,530,000
========== ========== ========== ========== ==========
Diluted(/1/)........... 45,924,724 37,239,649 14,630,145 31,765,534 13,530,000
========== ========== ========== ========== ==========
ADDITIONAL DATA:
Total revenues net of
hardware costs......... $ 71,391 $ 44,578 $ 25,221 $ 19,286 $ 11,684
22
As of December 31,
---------------------------------------
2001 2000 1999 1998 1997
-------- ------- ------- ------ -------
CONSOLIDATED BALANCE SHEET DATA:
Cash and cash equivalents............. $110,635 $48,834 $25,404 $9,749 $24,066
Total current assets.................. 232,836 254,190 64,773 42,805 36,131
Total assets.......................... 245,860 264,003 71,427 45,359 37,085
Total liabilities (excluding minority
interests)........................... 60,460 95,206 31,639 26,048 20,008
Total stockholders' equity............ 184,790 168,609 39,788 19,247 16,179
- --------
(1) In 1997, 1999 and 2000 the diluted net loss per share computation excludes
shares of common stock issuable under stock option plans, upon the
exercise of warrants and upon the automatic conversion of our convertible
preferred stock which, if included, would have had an antidilutive effect
on the net loss reported in those periods. In 2001, the Company had
options outstanding which could potentially dilute earnings per share in
the future, but were excluded from the computation of diluted earnings per
share in the year, as their exercise prices were above the average market
values in the year. See note 10 of notes to consolidated financial
statements for a detailed explanation of the determination of the shares
used in computing basic and diluted net income (loss) per share.
ITEM 7. Management's Discussion and Analysis of Financial Condition and
Results of Operation
OVERVIEW
We are a leading provider of telecommunications network integration and
management solutions in China. Our software products and network services
enable our customers to build, maintain, operate, manage and continuously
improve their Internet and telecommunications infrastructure.
We commenced our operations in Texas in 1993 and moved our operations from
Texas to China in 1995. We began generating significant network solutions
revenues in 1996 and significant software solutions revenues in 1998. While we
source hardware for our customers through our U.S. parent company, AsiaInfo
Holdings, Inc., we conduct the bulk of our business through our wholly-owned
operating subsidiary, AsiaInfo Technologies (China) Inc., or AsiaInfo
Technologies, which is a Chinese company.
Historically, our customer base was concentrated, with sales to China Telecom
and its provincial subsidiaries accounting for approximately 80%, 35% and 45%
of our revenues net of hardware costs in fiscal 1999, 2000 and 2001,
respectively. However, our customer base has diversified significantly and, at
December 31, 2001, approximately 23% of our backlog net of hardware costs was
attributable to China Telecom, while 37% was attributable to China Unicom, 22%
was attributable to China Mobile and 6% was attributable to China Netcom.
In the years ended December 31, 2001 and 2000, we entered into software and
network solutions contracts with China Netcom with a total contract sum
(including hardware pass-through) of approximately $9.3 million and $30
million, respectively. Edward Tian, a director and major shareholder of our
company, is the Chief Executive Officer of China Netcom. Revenue recognized in
2001 and 2000 from such contracts was approximately $17 million and $18
million, respectively. Accounts receivable due from China Netcom as of
December 31, 2001 and 2000 were approximately $2.2 million and $2.9 million,
respectively.
We believe that there are opportunities for us to expand into new business
areas and to grow our business both organically and through acquisitions. On
February 6, 2002, we completed our acquisition of Bonson Information
Technology Holdings Limited, or Bonson, a leading provider of operation
support system solutions to wireless telecommunications carriers in China. The
consideration paid to the former shareholders of Bonson consisted of
approximately $30 million in cash and approximately $18.4 million in shares of
our common stock. The cash we have paid and will pay in connection with the
acquisition has been and will be paid out of our existing cash reserves. On a
stand-alone basis in 2002, we anticipate that Bonson will generate net revenue
of $12 million to $13 million, operating profit of $4.5 million to $5.5
million, and net income of $3.8 million to $4.6 million. Bonson's operating
results will be consolidated with our operating results from February 6, 2002,
and the acquisition is expected to add approximately $0.08 to $0.10 cents to
our 2002 earnings per share. In view of this acquisition and potential future
acquisitions we may engage in, our historical operating results may not be an
adequate basis on which to evaluate our prospects.
23
As of December 31, 2001, we had invested a total of $2.7 million in our
majority-owned network security business, Marsec System Inc., or Marsec, which
focuses on high-end security services for our customers. Marsec generated sales
orders net of hardware costs of approximately $3 million in the year ended
December 31, 2001, and we anticipate that it will generate total sales orders
net of hardware costs of approximately $4-5 million in 2002. Marsec's operating
results are consolidated with our operating results for financial reporting
purposes.
On April 27, 2001, we invested approximately $6.2 million to acquire a 14.25%
equity interest in Intrinsic Technology (Holdings), Ltd., or Intrinsic, a
company organized in the Cayman Islands and engaged in wireless Internet
application and development through its two wholly-owned subsidiaries in China.
We account for our interest in Intrinsic using the equity method.
CRITICAL ACCOUNTING POLICIES
We prepare our consolidated financial statements in accordance with accounting
principles generally accepted in the United States of America. The preparation
of these financial statements requires us to make estimates and assumptions
that affect the reported amounts of assets and liabilities and the disclosure
of contingent assets and liabilities at the date of the financial statements
and the reported amount of revenues and expenses during the reporting period.
On an on-going basis, we evaluate our estimates and judgments, including those
related to revenues and cost of revenues under customer contracts, warranty
obligations, bad debts, income taxes, investment in affiliate, goodwill and
litigation. We base our estimates and judgments on historical experience and on
various other factors that we believe are reasonable. Actual results may differ
form these estimates under different assumptions or conditions.
We believe the following critical accounting policies affect the more
significant judgments and estimates used in the preparation of our consolidated
financial statements.
REVENUES AND COST OF REVENUES. We derive a significant portion of our revenue
from fixed-price contracts using the percentage of completion method, which
relies on estimates of total expected contract revenue and costs. We follow
this method since reasonably dependable estimates of the revenue and costs
applicable to various stages of a contract can be made. Recognized revenues and
profit are subject to revisions as the contract progresses to completion.
Revisions in profit estimates are charged to income in the period in which the
facts that give rise to the revisions become known. Accordingly, changes in our
estimates would impact our future operating results.
WARRANTY OBLIGATIONS. We record our estimate of warranty costs at the time
revenue is recognized. While we obtain manufacturers' warranties for hardware
we sell, we record our obligations based on historical experience. Future
warranty costs, which vary from our past experience, could require us to adjust
our accrual for warranty obligations, thereby impacting our future operating
results.
BAD DEBTS. We maintain allowances for doubtful accounts for estimated losses
resulting from the inability of our customers to make required payments. If the
financial condition of our customers were to change, changes to these
allowances may be required, which would impact our future operating results.
INCOME TAXES. We record a valuation allowance to reduce our deferred tax assets
to the amount that we believe is more likely than not to be realized. In the
event we were to determine that we would be able to realize our deferred tax
assets in the future in excess of their recorded amount, an adjustment to the
deferred tax asset would increase income in the period such determination was
made. Likewise, should we determine
24
that we would not be able to realize all or part of our net deferred tax asset
in the future, an adjustment to the deferred tax asset would be charged to
income in the period such determination was made.
INVESTMENT IN AFFILIATE. We account for our 14.25% interest in Intrinsic using
the equity method. Intrinsic has incurred operating losses since our investment
in April 2001. Sustained operating losses of this affiliate or other adverse
events could result in our inability to recover the carrying value of the
investment, which may require us to record an impairment charge in the future.
Through December 31, 2001, we have not recorded an impairment charge for this
investment.
GOODWILL. We make assumptions regarding estimated future cash flows and other
factors to determine the fair value of goodwill. If these estimates or their
related assumptions change in the future, we may be required to record an
impairment charge if the estimated fair value of goodwill is less than its
recorded amount. Through December 31, 2001, we have not recorded an impairment
charge for goodwill. Beginning January 1, 2002, we will be required to adopt
Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets," and will be required to analyze goodwill for impairment
issues during the first six months of fiscal 2002, and on a periodic basis
thereafter.
LITIGATION. We record contingent liabilities relating to litigation or other
loss contingencies when we believe that the likelihood of loss is probable and
the amount of the loss can reasonably be estimated. Changes in judgments of
outcome and estimated losses are recorded, as necessary, in the period such
changes are determined or become known. Any changes in estimates would impact
our future operating results. Significant contingent liabilities, which we
believe are at least possible, are disclosed in the notes to our consolidated
financial statements.
REVENUES
At the beginning of 2002, we reorganized our operations into three strategic
business units: network integration solutions, operation support system
solutions, and service application solutions. These strategic business units--
along with Marsec, which offers network security solutions--comprise our four
product offerings. Notwithstanding this organizational structure, we continue
to analyze our revenues on the basis of our two principal types of revenues:
network solutions revenues and software solutions revenues. For practical
reasons, we cannot reclassify and present our financial information to
correspond to our four product offerings prior to 2002. Although each of our
strategic business units generates both network solutions revenues and software
solutions revenues, in 2002 the network integration solutions unit is expected
to generate approximately 70 to 80% of our total network solutions revenues
(net of hardware pass-through) and the operation support system solutions and
service application solutions units are expected to generate approximately 90%
of our total software solutions revenues.
Although we account for our network solutions revenues on a gross basis,
inclusive of hardware acquisition costs that are passed through to our
customers, we manage our business internally based on revenues net of hardware
costs, which is consistent with our strategy of providing our customers with
high value IT professional services while gradually outsourcing lower-end
services such as hardware acquisition and installation. This strategy may
result in lower growth rates for total revenues as against prior periods, but
will not adversely impact revenues net of hardware costs. The following table
shows our revenue breakdown by business line on this basis:
Years Ended December 31,
----------------------------
2001 2000 1999 1998 1997
---- ---- ---- ---- ----
SOURCES OF REVENUES
Network solutions net of hardware costs........... 61% 61% 74% 88% 93%
Software solutions................................ 39% 39% 26% 12% 7%
--- --- --- --- ---
Total revenues net of hardware costs............ 100% 100% 100% 100% 100%
=== === === === ===
25
As demonstrated by the foregoing table, software solutions revenues have
accounted for an increasing portion of our total revenues net of hardware costs
over the past several years, increasing from 7% in 1997 to 39% in 2000 and
2001. We anticipate that software solutions revenues will account for
approximately 40 to 45% of our total net revenues for 2002 (inclusive of
Bonson).
During 2001, we included as a component of software revenues the software
service revenue that had previously been included as a component of network
solutions revenue. Such change in classification is consistent with our
internal reporting structure through December 31, 2001. We have reclassified
prior year amounts to conform with the current year presentation.
BACKLOG. Most of our revenues are derived from customers' orders under separate
binding contracts for hardware, network solutions and software solutions. These
contracts constitute our backlog at any given time. Revenues for hardware,
network solutions and software solutions are recognized during the course of
the relevant project, as described in more detail below. At December 31, 2001,
our revenue backlog net of hardware costs was $44 million, 57% of which related
to network solutions and 43% of which related to software solutions. At
December 31, 2000 and 1999 our backlog net of hardware costs was $36 million
and $18 million, respectively.
NETWORK SOLUTIONS REVENUES. Network solutions revenues consist of hardware
sales for equipment procured by us on behalf of our customers from hardware
vendors, as well as services for planning, design, systems integration and
training. We procure for and sell hardware to our customers as part of our
total solutions strategy. We minimize our exposure to hardware risks by
sourcing equipment from hardware vendors against letters of credit from our
customers. We believe that as the telecommunications-related market in China
develops our customers will increasingly purchase hardware directly from
hardware vendors and pay us separately for the full value of our professional
services.
We generally charge a fixed price for network solutions projects and recognize
revenue based on the percentage of completion of the project. We use labor
costs and direct project expenses to determine the stage of completion, except
for revenues associated with the procurement of hardware on behalf of the
customer. We recognize such hardware-related revenues upon delivery. Since a
large part of the cost of a network solutions project often relates to
hardware, the timing of hardware delivery can cause our quarterly gross
revenues to fluctuate significantly. However, these fluctuations do not
significantly affect our gross profit because hardware-related revenues
generally approximate the costs of the hardware.
Network solutions projects generally have a life of nine to twelve months,
during which there are three key milestones. The first milestone occurs when
the hardware is delivered, which is usually between three and four months after
signing the contract. The second milestone in a network solutions project is at
primary acceptance, which usually occurs around five months after hardware
delivery. The third milestone is final acceptance, which occurs when the
customer agrees that we have satisfactorily completed all of our work on the
project.
SOFTWARE SOLUTIONS REVENUES. Software solutions revenues include two types of
revenues--software license revenues and software service revenues. Software
license revenues consist of fees received from customers for licenses to use
our software products in perpetuity, up to a specified maximum number of users.
Our customers must purchase additional user licenses from us when the number of
users exceeds the specified maximum. Our software license revenues also include
the benefit of value added tax rebates on software license sales, which are
part of the Chinese government's policy of encouraging China's software
industry. Software service revenues consist of revenues from software
installation, customization, training and other services. To date,
substantially all of our revenue from both software licenses and software
services has been contract-related, meaning that it has been derived from
customer orders requiring some modifications or customization of our software.
We recognize all software revenue that is contract-related over the
installation and customization periods, based on the percentage of completion
of the project as measured by labor costs and direct project expenses.
The foregoing network solutions and software solutions revenue recognition
policies result in our recognizing certain revenues even though we are not due
to receive the corresponding cash payment under the relevant
26
contract. In the case of hardware sales, the customer typically holds back
around 10 to 20% of the hardware contract amount at the time of delivery. In
the case of services, while there may be some down payment, most of the
revenues becomes billable at the time of primary acceptance. The unpaid amounts
for hardware and services become payable at the time of final project
acceptance, when payment of all unpaid contract amounts is due. When we
recognize revenues for which payments are not yet due, we book unbilled
accounts receivable until the corresponding amounts become payable.
COST OF REVENUES
NETWORK SOLUTIONS COSTS. Network solutions costs consist primarily of third
party hardware costs, compensation and travel expenses for the professionals
involved in designing and implementing projects, and hardware warranty costs.
We recognize hardware costs in full upon delivery of the hardware to our
customers. In order to minimize our working capital requirements, we generally
obtain from our hardware vendors payment terms that are timed to permit us to
receive payment from our customers for the hardware before our payments to
hardware vendors are due. However, in large projects we sometimes obtain less
favorable payment terms from our customers, thereby increasing our working
capital requirements. We accrue hardware warranty costs when hardware revenue
is fully recognized upon final acceptance. We obtain manufacturers' warranties
for hardware we sell, which cover a portion of the warranties that we give to
our customers. We currently accrue 0.8% of hardware sales to cover potential
warranty expenses. This estimate of warranty cost is based on our current
experience with contracts for which the warranty period has expired.
SOFTWARE SOLUTIONS COSTS. Software license costs consist primarily of packaging
and written manual expenses. The costs associated with creating and enhancing
software are classified as research and development expenses as incurred.
Software services costs consist primarily of compensation and travel expenses
for the professionals involved in modifying, customizing or installing our
software products and in providing consultation, training and support services.
OPERATING EXPENSES
Our operating expenses are comprised of sales and marketing expenses, research
and development expenses, general and administrative expenses, and amortization
expenses for goodwill and deferred stock compensation. Operating expenses
consist primarily of compensation expenses, which have risen as our business
has grown and we have hired new personnel. We review salaries on an annual
basis in order to ensure that we remain competitive with the market, and do not
foresee the need to make material increases in the near term. However, we may
be required to do so from time to time in the future.
Research and development expenses relate almost entirely to the development of
new software and the enhancement and upgrading of existing software. We expense
these costs as they are incurred.
We provide most of our officers, employees and directors with stock options. In
the past, we granted a number of options with exercise prices below the fair
market value of the related shares at the time of grant, resulting in our
incurring deferred compensation expenses. Most of the options granted with
exercise prices below fair market value on the date of grant were issued prior
to 1997. We do not, however, intend to issue options below fair market value in
the future. Therefore, our deferred compensation expenses have been
significantly higher historically than we expect them to be in future years.
The difference between the exercise price and the fair market value of the
related shares is amortized over the vesting period of the options and
reflected on our income statement as amortization of deferred stock
compensation. See note 15 of our notes to consolidated financial statements
included in this report.
We make bad debt provisions for accounts receivable balances based on
management's assessment of the recoverability of revenues in accordance with
the aging of the accounts receivable. Because our client base is continually
expanding to include smaller telecommunications and Internet service providers,
we revisit our estimates on collectibility on a periodic basis.
27
TAXES
Except for hardware procurement and resale, we conduct substantially all of our
business through our Chinese operating subsidiaries. Our Chinese subsidiaries
are generally subject to a 30% state corporate income tax and a 3% local income
tax. AsiaInfo Technologies, our principal operating subsidiary, is classified
as a "high technology" company for purposes of Chinese tax law and, as such, is
entitled to preferential tax treatment in China. AsiaInfo Technologies operated
free of Chinese state corporate income tax for three years, beginning with its
first year of operation, and was entitled to a 50% tax reduction for the
subsequent three years. The tax holiday for AsiaInfo Technologies expired on
December 31, 1997 and the 50% tax reduction expired on December 31, 2000.
However, AsiaInfo Technologies received a continuation of its preferential tax
treatment from the local tax authorities in China for an additional three
years, expiring at the end of 2003, which reduces our effective income tax rate
to not less than 10%. In 2001, the effective corporate income tax rate
applicable to AsiaInfo Technologies was 10%. Changes in Chinese tax laws may
adversely affect our future operations.
Sales of hardware in China are subject to a 17% value added tax. Most of our
hardware sales are made through our U.S. parent company and thus are not
subject to the value added tax. We effectively pass these taxes through to our
customers and do not include them in revenues reported in our financial
statements. Sales of software in China are subject to a 17% value added tax.
However, if the net amount of the value added tax payable exceeds 3% of
software sales, the excess portion of the value added tax can be refunded
immediately. We therefore enjoy an effective net value added tax burden of 3%
on software license revenues. This policy is effective until 2010.
We are also subject to U.S. income taxes on revenues generated in the U.S.,
including revenues from our hardware procurement activities in the U.S. and
interest income earned in the U.S.
FOREIGN EXCHANGE
Substantially all of our revenues and expenses relating to hardware sales are
denominated in U.S. dollars, and substantially all of our revenues and expenses
relating to the service component of our network solutions business and
software business are denominated in Renminbi. Although, in general, our
exposure to foreign exchange risks should be limited, the value of our shares
will be affected by the foreign exchange rate between the U.S. dollars and
Renminbi because the value of our business is effectively denominated in
Renminbi, while our shares are traded in U.S. dollars. Furthermore, a decline
in the value of Renminbi could reduce the U.S. dollar equivalent of the value
of the earnings from, and our investment in, our subsidiaries in China.
CONSOLIDATED RESULTS OF OPERATIONS
Year Ended December 31, 2001 Compared to Year Ended December 31, 2000
REVENUES. Total revenues, including hardware pass-through, increased 7% to $189
million in 2001, from $176 million in 2000. Revenues net of hardware costs
increased approximately 60%, to $71.4 million in 2001. Software solutions
revenues were $27.9 million in 2001, representing 39% of total revenues net of
hardware costs and a 61% increase over software solutions revenues from the
previous year. We experienced significant net revenue growth in 2001 as the
overall market for network infrastructure software and solutions continued to
grow in China. Although our net revenues in each quarter of 2001 grew as
compared to the comparable periods in 2001, we experienced a sequential decline
in net revenues during the fourth quarter of 2001. Software solutions revenues
were $6.5 million, down 15% as compared to the preceding quarter, and total net
revenues were $20.0 million, down approximately 1% as compared to the preceding
quarter. This sequential decline was attributable to a slow-down in network
infrastructure spending resulting from the announcement of the restructuring of
certain state-controlled telecommunications companies in China, including China
Telecom. Although the planned restructuring caused some service providers to
delay infrastructure expansion and improvement projects, we anticipate that
spending will resume in the second half of 2002, and that the restructuring
will be a long-term driver of telecommunications infrastructure projects in
China. For more
28
information on the restructuring, please see the discussion above under the
heading "Item 1. Business--Industry Background."
Looking forward, we anticipate that on a pro forma basis inclusive of Bonson's
operating results, our net revenues will increase 15 to 25% in 2002, from pro
forma net revenue of $80 million in 2001. We expect software solutions revenues
to account for 40 to 45% of total net revenues in 2002.
COST OF REVENUES. Our cost of revenues decreased 7.7% to $133.5 million in
2001, primarily due to a 10.5% decrease in total hardware costs to $117.6
million. This decrease in total hardware costs illustrates our continuing focus
on high-end solutions as opposed to hardware resale in 2001. Our cost of
revenues net of hardware costs increased 20% to $15.9 million in 2001 while our
revenues net of hardware cost increased 60%.
GROSS PROFIT. Our gross profit increased 77% to $55.5 million in 2001. Gross
profit as a percentage of net revenues was 78% in 2001, as compared to 70% in
2000, reflecting a large contribution from our higher-margin software solutions
revenues and our increasing focus on high-end network solutions projects.
OPERATING EXPENSES. Total operating expenses, nearly half of which consisted of
sales and marketing expenses, increased 11% to $45.1 million in 2001. Sales and
marketing expenses for the year grew at a slightly lower rate than total
operating expenses, and decreased substantially to $4.0 million in the fourth
quarter as compared to $6.4 million in the fourth quarter of 2000 and $6.3
million in the immediately preceding quarter. This decrease was a direct result
of effective cost control measures we implemented in the fourth quarter to
counteract the impact of the planned telecommunications industry restructuring
in China. Research and development expenses increased 22% to $7.3 million in
2001. The growth rate in research and development in 2001 was slower as
compared to that in 2000 because our previous research and development
investments have reached a level of scalability. General and administrative
expenses increased 16% to $14.9 million in 2001, and are expected to continue
to grow at a relatively low rate as our business continues to achieve economies
of scale.
OTHER INCOME AND EXPENSES. Other income and expenses, consisting primarily of
net interest income and expense, decreased to income of $6.1 million in 2001
from income of $6.9 million in 2000, primarily due to a decrease in our
interest income attributable to lower interest rates and lower cash balances
held during the year.
INCOME TAX EXPENSE. Income tax expense increased to $3,444,000 in 2001 from
approximately $218,000 in 2000, primarily due to an increase in our net income
for the year ended December 31, 2001.
MINORITY INTEREST. In 2001, minority interest of $396,000 represented the
portion of our income before minority interests attributable to the minority
shareholders of two of our subsidiaries, Marsec and Guangdong Wangying
Information Technology Co. Ltd., or Guangdong Wangying.
EQUITY IN LOSS OF AFFILIATES. In April 2001, we invested $6.2 million in
Intrinsic Technology (Holdings), Ltd., or Intrinsic, for a 14.25% interest in
that company. Our investment in Intrinsic is recorded using the equity method
because we are able to exercise significant influence over the operating and
financial policies of Intrinsic through representation on the company's board
of directors. Our share of loss of $885,000 includes amortization of goodwill
in the amount of approximately $751,000.
NET INCOME (LOSS). Net income increased to $11.7 million in 2001, or $0.26 per
share on a fully diluted basis, as compared to a net loss of $2.8 million in
2000.
Year Ended December 31, 2000 Compared to Year Ended December 31, 1999
REVENUES. Total revenues increased 192% to $176 million in 2000, from $60.3
million in 1999. Network solutions revenues accounted for $105 million of this
increase due in large part to the UniNET project, which we commenced in 2000 on
behalf of China Unicom. The UniNET project contributed $52 million in hardware
costs, which was 40% of our total hardware costs for the year. Revenues net of
hardware costs increased
29
approximately 77%, from $25 million in 1999 to $45 million in 2000. Software
solutions revenues were $17.4 million in 2000, representing 39% of revenues net
of hardware costs and a 167% increase over software solutions revenues of $6.5
million in 1999. The growth in software solutions revenues reflected the
overall growth of the Internet-related software market in China and our
increased share of that market, which we believe was attributable to our
investments in software-related research and development and sales and
marketing. In addition, $1.3 million of the increase in software solutions
revenues was attributable to the value added tax rebates discussed above under
the heading "Taxes."
COST OF REVENUES. Our cost of revenues increased 245% to $144.7 million in
2000, from $42.0 million in 1999, primarily due to the high hardware costs
incurred in connection with the UniNET project, as discussed above. Total
hardware costs increased 275% to $131 million in 2000, as compared to $35
million in 1999. Our cost of revenues net of hardware costs increased 91% to
$13.2 million, as compared to $6.9